Virtue Inc.

Can the new “benefit corporation” charters give companies a conscience?

In 1776, Adam Smith wrote, “It is not from the benevolence of the butcher, the brewer, or the baker that we expect our dinner, but from their regard to their own interest.” He was summing up the key insight of capitalism: Allowing economic actors to pursue selfish goals also benefits society as a whole. In the intervening centuries, that insight has helped unleash humanity’s productive capacity like never before.

But an epigram does not a perfect economic system make. The consequences that follow when economic actors—especially massive global corporations—pursue narrow self-interest are written all over contemporary history: the financial meltdown, the BP oil spill, the working conditions in overseas factories. The village butcher, brewer, and baker still had to look you in the eye every Sunday on the way to church. The drivers of global capitalism do not.

To rein in the excesses of capitalism without losing the dynamism that makes it hum, a variety of thinkers have begun looking for ways to re-imagine the corporation itself, restructuring it to encourage businesses to pursue not only profit, but also positive social impact. One of those innovations will hit Massachusetts Saturday, when companies here will be able to register as a new entity called a "benefit corporation."

The idea of a benefit corporation is to weave some social responsibility into the DNA of the company itself through its charter. In the standard structure for a large corporation, called a "C corporation," the CEO has a legal duty to maximize return for shareholders. If a CEO of a traditional corporation suddenly decides to use the company's money to sponsor a charitable cause, or pay factory workers higher wages, or cut down on pollution because she thinks it's the right thing to do, she could expose herself to a lawsuit from shareholders if it cuts into profits. A benefit corporation, on the other hand, is required by law to create "a material, positive impact on society and the environment," and—while still making a profit—to consider the effects of its actions on its customers, its employees, society, and the environment.

First proposed in 2008 by a Philadelphia nonprofit called B Lab, the benefit corporation is still in its infancy as an idea. Maryland became the first state to allow benefit corporations, in April 2010, and since then 11 other states have authorized the new corporate structure, with efforts to do so underway in 14 more. B Lab estimates that there are 170 registered benefit corporations so far, and that about 10 Massachusetts businesses will adopt the structure on Dec. 1. In January, outdoor clothing company Patagonia registered as a benefit corporation in California, becoming the most prominent business to do so thus far.

Benefit corporations mark a novel approach to rewriting the contract between free enterprise and society; they have already gained wide support among the progressive business community and social entrepreneurs, as well as state legislators from both parties. But as they spread across the United States, they also raise important questions about the right balance between profit and responsibility. How far can you dilute the profit motive without hurting a business's chances to grow and thrive? And, if there really is broad agreement that the profit motive sometimes needs to be reined in for the greater good, is a voluntary, opt-in effort really the best tool to accomplish it?

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In some ways , the idea of a socially driven company doesn't re-envision the corporation so much as nudge it back toward its original raison d'être. The first modern corporations were products of 17th-century colonialism, entities like the Dutch East India Company and the Jamestown Corporation. The corporate structure allowed groups of investors to pool their risks and rewards, and they enjoyed legal recognition and protection by monarchs precisely because their success was expected to feed back into the society that chartered them.

This innovative structure proved an immense success. The rise of corporations was in large part responsible for fostering the entrepreneurialism and institutional stability that fueled the industrial revolution. Today, corporations continue to sustain an epoch of unprecedented economic growth.

But to many critics, the scale and reach of today's multinationals has thrown off the balance of power between companies and society. The world's largest corporations are now powers unto themselves, rivaling in size and sophistication many of the sovereign nations in which they operate. Today, if you rank annual corporate revenues alongside national gross domestic products, only about half of the world's 100 largest economic entities are nations—the rest are private corporations. Exxon-Mobil's annual revenue exceeds Austria's GDP; four years after the financial meltdown, several of America's financial institutions remain "too big to fail," enjoying implicit government insurance while pushing back against government rules. The US business lobby continues to block meaningful climate regulation, and in this area and others, the long-term consequences of unlimited corporate political contributions remain unclear.

In response, a variety of efforts to rethink the corporation have sprung up. Several states recognize "low-profit limited liability companies," which place a charitable mission ahead of profits. California now recognizes a "flexible purpose corporation," which allows shareholders to specify a mission beyond simply profit. Google has established a for-profit philanthropy that, among other activities, funds public health and clean water initiatives in the developing world. Meanwhile, the more nebulous concept of "social entrepreneurship" has become one of the business world's hottest buzzwords, covering a variety of efforts to mix free enterprise and social welfare.

So far, the benefit corporation has made the most progress. The idea was triggered when entrepreneurs Bart Houlahan and Jay Coen Gilbert sold And1, a sporting goods brand they helped build from the ground up, and watched its new corporate parent abandon the company's pro-social policies. Along with Andrew Kassoy—the three had been college roommates at Stanford—they founded B Lab in 2006 to help push more businesses toward embracing social goals. After talking to hundreds of entrepreneurs and investors, Gilbert said, they recognized an unmet need for a corporate structure that formally committed a business to social goals and gave directors the legal cover to pursue them. They drew inspiration from Massachusetts-based author Marjorie Kelly's 2003 "The Divine Right of Capital," which argues that corporations beholden only to shareholder profits are incompatible with democracy or a truly free market. After proposing the structure, B Lab continued to develop it in conjunction with corporate lawyers.

Though the structure is purely voluntary, Gilbert argues that as discontent with the business world spreads, and employees and investors seek companies with values beyond the bottom line, the benefit corporation will be able to out-compete traditional corporations for capital and talent. "You're going to turn your companies into evangelists," Gilbert said. "These companies are going to win, and everybody loves a winner. So people are going to emulate it."

The benefit corporation's backers can take some encouragement from new economic thinking about human motives. The classical economic view of humans sees them as homo economicus, rational, self-interested creatures who always seek to maximize gain. But recent research paints a more complicated picture. "The reality is that we have multiple goals, and they're fuzzy in our mind and conflicting," said Yale economist Robert Shiller. By embracing both selfish and egalitarian impulses, benefit corporations can meet the human need to do work whose value is more than financial.

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Not everyone is as bullish as B Lab on the new entity's future. Though Cambridge-based open-source software developer Dimagi plans to register as a benefit corporation next month, its chief operating officer, Carter Powers, said he believes the structure only suits a small niche of purpose-driven firms. His own firm is one of them: It's a for-profit company that uses open-source software to support public health efforts in the developing world, and Carter says the switch would just formalize its priorities. He sees the benefit structure as an aid to marketing, and a recruiting tool for a socially minded workforce. At the same time, he says, the benefit corporation structure is unlikely to appeal to all companies.

Others have criticized the benefit corporation's structure. Phil Peters cochairs the Corporation Committee of the California Bar, which opposed benefit corporation legislation when it was introduced in the state; he says its charter gives managers unnecessarily broad discretion at the expense of shareholders. Peters instead supports flexible-purpose corporations, similar entities recognized by California with stronger provisions for shareholder control.

Peters, who said he was not speaking on behalf of the California bar, said he also finds it problematic that benefit corporation legislation requires businesses to submit to a review of their impact with standards set by a third party. Currently, the most popular standard for a third-party "benefit report" is one provided by B Lab itself, which charges thousands of dollars annually for such reports, though benefit corporations can legally use other sources as well. (A nonprofit, B Lab also brings in money by rating the social and environmental impact of companies and funds for investors, and by issuing "B Corporation" certifications that attest to the social values of businesses of any corporate structure.)

From his perch in the world of corporate law, Peters said he has seen a strong demand for such "blended" corporate structures, but doesn't think they're likely to trigger a wholesale economic transition any time soon. "Capitalism, in its pure form, has done OK for the United States," he said.

Others believe the benefit corporation addresses the right problem in the wrong way. Kent Greenfield, a professor at Boston College Law School, would like all corporations to behave like benefit corporations, driven by social obligation as well as profit. But the way to do this, he says, isn't to create a new entity and hope it catches on: It's to elect a government willing to push back. Legislators, he said, should make the duties owed by all corporations to employees, society, and the environment "clear and enforceable."

Greenfield said that opt-in solutions like benefit corporations risk diverting momentum from bigger reform efforts that could affect the way all corporations do business. He pointed to Europe, where corporations tend to have strong legal requirements to consider social obligations, as a model.

Despite his reservations, Greenfield sees the benefit corporation experiment as embodying a valuable new kind of thinking about what a company should be, and a belief that an overly narrow dedication to profit can be counterproductive to companies themselves.

"There's a bit of a bandwagon now," Greenfield said, "around the notion that a narrow focus on shareholder interest and shareholder profit is not only bad for society as a whole but bad for shareholders." In the end, the motivation to look beyond old-fashioned corporate structures may be a self-interest that even Adam Smith would recognize.